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Salesperson Compensation, Part 3: Understanding the Mechanics, Implementation, and Planning for the Next Cycle

April 22, 2015

In our last couple of newsletters, we noted the unique factors that demand a different kind of compensation structure for your organization’s salespersons. We showed that sales compensation must be a motivator for continued performance excellence. And we described how to strike the right balance between fixed and variable pay, and how to quantify the “upside potential” and determine other key components and their weighting factors. The final three elements I want to cover in this series on salesperson compensation are about the plan mechanics (including commissions versus quotas, payout frequency, etc.), the necessary implementation and communication factors, and how to begin planning for the next cycle. Let’s explore these critical components of salesperson compensation:

Getting the Mechanics Right

As I mentioned last time, the salesperson’s compensation is usually a mix of fixed (or base) pay and variable (at-risk or incentive) pay. But when it comes to setting performance expectations and rewarding performance excellence, you’ll want to consider whether commission plans or quota plans – or some mix of the two – are appropriate.

Commission plans are typically clear and straightforward, so Sales Reps find them easy to understand: sell at a certain level and receive a pre-determined commission (usually in addition to base pay). Organizations may use varying commission rates for different products; however, commission plans normally pay from the first dollar sold, and the salesperson does not have to reach a threshold level of sales performance to begin earning the commission. A quota plan, on the other hand, can help keep the Sales Rep focused on the entire sales process – from booking the sale to shipping and ensuring customer payment. Accurate quota setting can be challenging, so quota plans are most commonly used by companies with a history of sales performance and market analysis over time.

To fine tune your salesperson compensation plan, you might also consider factoring in links, a bonus multiplier, caps and a threshold. Another important consideration is the frequency with which plan payouts are made.

Links

Some plans link overall company performance components to salesperson compensation. These links are often based on profit and/or revenue. Typically, however, a Sales Rep cannot earn any over-target payouts on the revenue measure unless and until they also exceed the target on the profit measure.

Bonus Multiplier

If a Sales Rep achieves exceptional results over an assigned goal (for example, if the rep hits 110% of the annual target by the end of the third quarter), many companies will include a bonus multiplier. This could result in the rep receiving either a lump sum bonus once the milestone is reached or a bigger payout at the time of the planned payment.

Caps

Some companies may place a cap on plans in which the rep cannot earn above a certain level. A cap might be appropriate for some measures but not others. For those components that are capped, if the salesperson’s compensation hits the cap cycle after cycle, this could be an indication that certain plan elements are not properly structured relative to likely performance attainment.

Threshold

It is often appropriate for a company to set certain minimum performance levels before the salesperson can start earning incentive compensation in a quote-based plan. If it is a commission-based plan, this is often accounted for in the base salary.

Payout Frequency

How often the compensation program payouts are made will vary from plan to plan depending on many factors. While the most common frequency is quarterly, the nature of the industry and the marketplace, as well as internal accounting issues, may affect compensation payout frequency.

Implementation and Communication

Effective communication of the salesperson compensation program can help ensure that a newly introduced or modified plan will “hit the ground running.” Communication must be timely and clear. This is never more important than when a plan is new, has been modified substantially, or has many component variables. Even the best sales compensation plan must be “sold” to the sales personnel in the field, and even positive plan changes can fail if communication of those changes is poorly done. Poor communication of the plan also can lead to a reduction of personal productivity, a reduction in overall corporate performance, and even excessive turnover.

Of course, good communication is more than merely delivering a plan document. You’ll want to personalize the communication to enhance clarity and buy-in. For best effect, strike the right balance between too much info and too little info. Communicate when people need it, such as when the program is rolled out and before measurements of the new plan begin. For communicating results, share plan details and outcomes within a reasonable period after a measurement period closes. (Don’t keep your salesperson guessing or this could impact their performance in the new period.)

Evaluating the Program and Planning for the Next Cycle

It is important to periodically evaluate your sales compensation plan to determine if it is having the intended positive impact on your sales organization and corporate sales results. This can be especially critical if substantial changes to the plan were introduced or market factors have made the status quo of an existing plan questionable. There are three primary ways (or views) to help you determine the effectiveness of your sales compensation plan: financial, performance, and differentiation. And beyond these are some simple effectiveness measures to keep your program in perspective and on track.

Financial

Taking a financial view, you can determine how the plan is functioning as well as its costs. This can help you bring into perspective the plan’s impact on salesforce earnings along with the company’s return on investment from the plan.

Performance

From the performance viewpoint you can determine if the plan is driving the right behaviors as planned. By analyzing both macro and micro performance factors, you can make large adjustments or do smaller fine tuning as appropriate. Be careful, however, to understand that making large changes based on short measurement periods could cause additional problems. It is generally better to view performance factors as trends in the context of at least a few performance cycles before making large-scale or wholesale changes.

Differentiation

Differentiation can help you determine if the top earners are also truly your top performers. Be sure to build into your measurement criteria the necessary performance differentiation data to make this assessment.

Effectiveness Measures

Among the simple measures to consider when evaluating the effectiveness of your sales compensation program are:

  • Compensation Cost of Sales: The total compensation dollars paid as a percent of sales
  • Pay and Performance Correlation: A scattergram of each rep’s incentive pay vs. revenue generated; this can help you discover any misalignment between top performers and top earners
  • Distribution of Rep Earnings: A bar chart measure to validate if the plan is functioning as expected with the percentage of reps hitting below target, at target and above target
  • Percent of Sales/Percent of Average Earnings: This measure can help you uncover any disconnects between the quarterly percent of sales plan earned and the average percent of quota earned. For example, if the sales for Q2 are at 105% and the average quota earned is at 70%, something is amiss. The same would be true for the reverse situation. In either case, such results should raise questions for the business unit about possible extraordinary factors such as short-term revenue windfalls, shortfalls, design issues, etc.

By utilizing these types of analytics, you can make mid-year adjustments if needed or plan for changes to next year’s compensation program.

Bottom Line:

Proper compensation for the salesperson requires more than just careful analysis and structure. It also requires proper communication and constant monitoring and adjustments. Obviously, salesperson compensation can be complex, with many moving parts. The larger your organization or industry, or the more diverse your product or service offerings, the more complicated it becomes to design, monitor and fine tune your sales compensation program. For help in determining whether your sales compensation program is appropriate and contributing to a better corporate bottom line, contact Total Reward Solutions today at 317.589.8529. We’ll be glad to take a look and help you make the necessary adjustments.

Posted Under: Sales Compensation